Thursday, March 19, 2015

Non Performing Assets (NPA)


Bank Assets
Assets are something that you own, meaning you are the legal owner of the asset. Similarly, bank assets are those things that a bank owns. It can be physical property (like land, equipment, buildings, etc.) or financial property.

Banks generally have four types of assets - Physical Assets, Loans/Advances, Reserves and Investments. (Read the topic - Bank Assets and Liabilities for detail).

Among the above four types, loans or advances are the most important and risky asset of a bank. It is most important because, it can generate maximum profit, and at the same time, it is the most risky because if the borrower fails to repay the loan amount, then the bank will face loss.



Non-Performing Assets (NPA)
If the borrower (of a loan/advance from a bank) is unable to repay the interest and principal repayments to the bank, for a considerable amount of time, then the loan/advance will be called non-performing. Since loans/advances are assets of the bank, it will be known as Non-performing Assets (NPA).

In Indian context, if the borrower has failed to make interest or principal payments for 90 days (3 months), then the loan/advance is considered NPA.

(In layman's terms NPA refers to - you lend money, but you don't get it back when you expected)



Recovery/Non-recovery of NPA
Interests earned on loan repayments are the most important income of a bank. Therefore, due to default in repayment, banks will suffer loss. Though, by selling the collateral securities (if any) against the loan - banks could recover the loan amount, the process of selling the securities (with the help of Asset Reconstruction Companies, and they will charge fee) is a tedious and long term job, and even the seizure of mortgage or hypothecation, etc is difficult process.

Moreover, if the company or individual borrower becomes bankrupt, then the loss will be catastrophic for the lender bank. Even in some cases, there could be some corrupted bank officials who would sanction loan to uncreditworthy borrowers for bribes, or ministerial / political pressures!



Conditions to become NPA
An asset becomes NPA when it ceases to generate income for the bank -

  1. Term Loan - Interest and/or installment of principal amount remain overdue for more than 90 days
  2. Overdraft / Cash Credit - The account remains 'out of order' for 90 days
  3. Bill - The bill remains overdue for more than 90 days in the case of bills purchased and discounted
  4. Short duration crops - The installment of principal or interest remains overdue for 2 crop seasons
  5. Long duration crops - The installment of principal or interest remains overdue for 1 crop season
  6. Securitisation transaction - The amount of liquidity facility outstanding for more than 90 days
  7. Derivative transaction - The overdue receivables representing positive mark-to-market value of a derivative contract, if these remain unpaid for 90 days from the specified due date for payment.


NPA Classification
Banks are required to classify NPAs into the following 3 categories, based on the nonperforming period and the realisability (recoverability) of the dues -

  1. Substandard Assets - (90 days - 12 months)
    Assets remained NPA for less than or equal to 12 months (1 year) are Substandard Assets.

    Such an asset will have well defined credit weaknesses that jeopardise the liquidation of the debt and are characterized by the distinct possibility that the banks will sustain some loss, if deficiencies are not corrected.
  2. Doubtful Assets - ( > 12 months)
    Assets remained Substandard assets for 12 months (1 year) are Doubtful Assets.

    Such an asset will have all the weaknesses inherent in substandard assets, with the added characteristic that the weakness make collection or liquidation in full - on the basis of currently known facts, conditions and values - highly questionable and improbable.
  3. Loss Assets -
    Assets where loss has been identified by the bank or internal/external auditors or the RBI inspection, but the amount has not been written off wholly.

    Such an asset is considered uncollectible and of such little value that its continuance as a bankable asset is not warranted although there may be some salvage or recovery value.


Upgradation of NPA to Standard
If arrears of interest and principal are paid by the borrower in case of loan accounts classified as NPAs, the account should no longer be treated as nonperforming and may be classified as 'standard' accounts.



Current NPA status in India
According to Moody's analyst ICRA, the percentage of gross NPAs (GNPAs) for the banking sector (both PSBs and private banks) is expected to worsen from 3.9 % of advances in fiscal 2013-14 to about 4 - 4.2 % in 2014-15.







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